Regulation D — The Ultimate Guide on Raising Private Capital

Regulation D Guide

Last Updated: 3/30/2021

What’s Regulation D

Regulation D, also known as Reg D, is a set of rules imposed by the Securities and Exchange Commission (SEC) to regulate private security offerings, also known as private placements. Small companies, entrepreneurs, and startups can benefit from the exemptions granted by Reg D, which allows them to skip the lengthy paperwork and regulations associated with a public offering.

In this sense, Reg D provides an expedite route through which a company can offer securities to third parties to raise money for its operational needs. A business can either raise money through equity instruments (such as common shares) or debt instruments (such as bonds or convertible issues) and the offering will not have to be registered with the SEC. Instead, the company will only inform the SEC about the proceeding but it will not require its authorization to complete the placement.

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What are the main benefits of Regulation D

For a company that’s looking to raise money quickly to fund its operations, Regulation D provides the most favorable legal framework to expand its network of potential investors outside the tight circle of family, friends, and close acquaintances, as Reg D, provided certain criteria is met, permits the possibility of soliciting and advertising the private offering to ‘accredited investors.

How much money can I raise through Regulation D offerings

There are two rules that disclose the details of how large a Regulation D offering:

· Rule 504

A rule that allows a business to offer up to $5,000,000 in securities privately in a 12-month period without the need of registering the offering with the SEC. Under most circumstances, these securities should be “restricted” which means that the holder cannot be sold for a period of 6 to 12 months without registering them formally with the SEC. This rule is not applicable to investment companies or companies at a development stage that doesn’t have a clear business plan.

· Rule 506

This rule permits two different scenarios under which a company can raise an unlimited amount of money through Regulation D:

Under paragraph ‘b’, a company can’t solicit or advertise the offering but it can sell the offering to an unlimited number of ‘accredited investors and up to 35 non-accredited investors, as long as they proved to be sufficiently knowledgeable of business matters to the extent that they understand the risks associated with investing in the business.

The company must disclose sufficient information to portrait the financial situation of the business and it must be available to potential investors to answer any questions they may have, so they can make an informed decision on whether to invest in the offering or not.

This information commonly involves audited financial statements and business reports that disclose the key operating aspects of the business including details on their manufacturing processes, products, services, marketing information, and future projects.

Paragraph ‘c’ allows a business to solicit and advertise its offering, as long as all the parties investing in it are considered ‘accredited investors’. The company must ensure that the parties involved meeting the criteria to qualify as such and they must also disclose all relevant information associated with the business financial and operational situation.

Under both scenarios, a company must file an electronic Form D through the EDGAR Database to inform the SEC that the offering has been placed. The form requires information about the business, its officers, the nature of the offering, the minimum investment required, and any commissions associated with the offering.

Additionally, even though companies may be exempt from formally registering the offering with the SEC, some states may impose certain rules related to private placements. In this sense, the issuer must look for advice from a local securities attorney to make sure the company complies with local regulations.

SEC Exemption Breakdown

What’s an accredited investor

An accredited investor is an individual that is capable of understanding the risks associated to do business and investing in securities, to the extent that they can make an informed decision based on factual information. The criteria to qualify as an accredited investor is:

· An annual income of at least $200,000 for an individual or a combined annual income of $300,000.

· A net worth of least $1,000,000 either for a single individual or combined with its spouse, excluding the value of its primary residency.

· A trust that manages at least $5,000,000 in total assets, that is operated by a sophisticated individual (business-savvy) and that wasn’t formed with the specific purpose of purchasing the offering.

· A legal entity whose shareholders are all accredited investors.

Investor Accredit

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How can you prepare to raise money through a Regulation D offering?

Raising money through a Regulation D private placement requires certain skills that are crucial to a successful result. A founder must be capable of transmitting through the documentation, and potentially through personal presentations, the business idea, his qualifications, the soundness of the business model, the key relationships he has that will ensure his success, the qualifications of his teams, and many other elements that will communicate persuasively that this is a business an investor shouldn’t pass on.

Chase Hughes, the CEO of Pro Business Plans shared some key advice on how to successfully raise capital through a Regulation A offering. Given that both offerings are similar in nature, some of these tips are applicable to Regulation D offerings also. Here are a few that you may find useful:

· Make sure consumers love your product

If you can’t prove there’s a market eager to buy what you are selling, you’ll find difficulties in pitching your idea to those with enough money to know better than a business with no customers is no business at all.

· Set a low goal for your initial round

Some companies go too far when they do their first round of funding. If there are still a few details of your business model that need further a/b testing or, if the product still has details that need to be fixed, you should consider setting a low goal for your initial Reg D offering, this way you’ll seize the momentum but you’ll also protect yourself from unaccomplished high goals that may trigger refunds or cancellation.

· You need money to raise money

Raising capital through Reg D is not cheap, especially if you go the 506(c) route and you want to advertise your offering. The funds to cover the legal fees and a decent marketing budget are a must. Failing to adequately market your offering can end in disastrous results. So, if you are considering raising capital on a low budget, think twice.

Signup for a free webinar: Raising Capital for Your Startup: How to Raise Money for your Business Venture from Seed to Series-A

How much does it cost to raise money through Regulation D?

· Filing Form D to comply with the SEC requirements costs between $200 and $400, depending on the state.

· The legal fees associated with a Regulation D offering may range from $10,000 to $25,000 depending on the complexity of the case. For this reason, many entrepreneurs use Regulation D to raise millions of dollars, as these expenses can be diluted in a large offering.

· Marketing costs associated with a Rule 506(c) offering can range from 1% to 8% depending on the marketer. The agency in charge of helping the business in advertising the offering will collect this fee once the offering is allocated and in some cases, the issuer can negotiate a fee structure based on the percentage of the offering that was successfully allocated.

· There are also some fees associated with certify or qualify accredited investors and companies usually hire financial advisors to help them draft business plans, pitch decks and, financial projections. Establishing a business valuation is key to raise capital.

Form D — Reg D Offering

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